Heading here: The booby trap of online loans

CBS.MarketWatch.com

NORTH PALM BEACH, Fla. (bankrate.com) -- Believe it or not, surfing around on the Internet for a good deal on a loan could actually hurt your chances of getting one.

"I wanted to wait for the right offer. Before I knew it, I was getting less and less favorable offers."

Rasha Elass, mortgage applicant

Lots of banks and finance companies list general information about mortgages, home equity and other loans on their Web sites. But to find out what specific rate you qualify for, you often have to submit a Social Security number so a lender can run a credit check. Too many of these checks can hurt your credit score.

Rasha Elass, an analyst for Gartner Group's e-business services, learned this lesson the hard way. She wanted to refinance her $150,000 mortgage, so she hopped on the Internet to compare offers. She applied for rates from nine or 10 lenders over a three-month stretch last fall.

"I took my time. I had no reason to close in a hurry. I wanted to wait for the right offer," Elass said. "Before I knew it, I was getting less and less favorable offers."

Too many credit inquiries

When Elass first started applying she was receiving offers for loans with 7.5 percent interest rates and no points. Several weeks later the offers were for loans with 8.5 percent interest rates and three points. She estimates the changes would have cost her an extra $75 a month in mortgage payments and $4,500 in closing costs.

"All you're doing is shopping around and you're being penalized as if you were an over-leveraged borrower," Elass said.

As the loan offers got worse and worse, Elass contacted lenders to find out what was going on.

"After a while it became clear that it was the number of credit inquiries," she said.

When you apply for a loan, you give a lender permission to pull a copy of your credit report. Each time a lender peeks at your credit history an inquiry appears on your report. Frequent inquiries can be a sign of iffy credit.

"The more inquiries on a borrower's credit file, the more likely a borrower may be not to pay his or her bills as agreed," explains Fair, Isaac and Co., the nation's leading credit scoring firm, on its Web site.

Time to update the models?

Elass said she believes that credit scoring models should be updated to allow for consumers' Web surfing habits. She makes her case in a study released this spring by Gartner Group.

Twelve million consumers used the Internet when shopping for loans in 1999. Gartner Group

"In the offline world you don't usually apply for a loan unless you're serious. With the Internet, shopping means applying," Elass said. "You don't know what rate you qualify for unless you apply."

Twelve million consumers used the Internet when shopping for loans in 1999, according to Gartner Group. Because getting detailed information means forking over your Social Security number and filling out applications, many online loan shoppers could be damaging their credit scores without realizing it.

"The scoring model needs to somehow differentiate between innocent shoppers and borrowers who are becoming more and more leveraged," Elass said.

Prior to this 30-day buffer period, multiple inquiries made in any 14-day segment are counted as a single inquiry. With all other loans, including credit cards, each application for credit is counted as an inquiry.

However, experts say that inquiries typically account for less than five percent of a consumer's credit score.

"The inquiries are the least significant factor considered by FICO scoring models," said Craig Watts, consumer affairs manager for Fair, Isaac and Co. "Much more important is how you pay your bills and how much you owe. Those two factors make up two-thirds of a score."

Industry: We need more data

Fair, Isaac would need more information from Elass and the lenders she applied to before it could assess her situation, Watts said. A number of factors could have bumped up her credit scores.

"She's raised an issue that modelers and lenders may need to address, but we need more data before we can proceed," Watts said.

"Until we have data, we can't go in and our change our models."

And it will take much more than one person's horror story for that to happen. Watts said a significant number of borrowers would have to be affected before models, which are updated every 18 months, would be adjusted.

"I'm personally not convinced that consumers are spending months shopping online before they close on an interest rate," Watts said.

"So far what we have from Rasha is an interesting anecdotal possibility."

Resist temptation to apply everywhere

It's a possibility consumers should be aware of when they hop online to check out loans. Because of the speed and ease of Internet, you may be tempted to apply for loans from a large number of lenders. Do so only when you're ready to sign on for an offer.

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